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Friday, April 28, 2017

Part of my process for monitoring my investment holdings involves subscribing to news alerts related to the companies in my portfolio. Earlier this week, this article related to the impact that Coca-Cola's stock on various college endowments appeared in my news feed. To summarize the article, four colleges have a large portion of their endowment funded by the Lettie Pate Evans Foundation, which holds almost exclusively shares in The Coca-Cola Company. Due to Coke's growing dividends, hundreds of millions of dollars have been provided to the endowments of the colleges. The article triggered mixed emotions for me, as I feel it accurately depicts the power, potential and pitfalls of dividend growth investing.

The Power

With 95% of their assets invested in shares of Coca-Cola, the Lettie Pate Evans Foundation grew their assets from $7M in 1953 to $3B today (including 67 million shares of Coke). The approximate 10% compounded annual rate of return was due to share price appreciation, 55 years of dividend growth, dividend reinvestment and share splits. It is fascinating that 1 share of Coke in 1953 yielded 1152 shares today through stock splits alone!

The power of dividend growth is reflected in the Evans Foundation generating approximately $100M of dividends on their shares of Coke. As the President of the Foundation indicates in the article "That [Coca-Cola] dividend has paid a lot of tuition over the years". As an example, Washington and Lee University expects to receive about $13M of dividends from their $400M investment in Coke through the Evans Foundation this year alone.

The Potential

Given the long time horizons of endowment funds, dividend growth stocks such as Coca-Cola that consistently raise their payouts seem like the perfect investment. Much like early retirees aim to fund their expenses with dividend and interest income without touching their principal, endowments can use dividends to fund an increasing amount of scholarships and bursaries without impairing their capital base. The true challenge is to find quality companies to include in the investment/endowment portfolio that are capable of paying out higher amounts of their growing earnings via dividends for decades to come. Tat challenge leads to the primary pitfall evident for the Lettie Pate Evans Foundation and colleges mentioned in the article.

The Pitfalls

The lack of diversification for the Lettie Pate Evans Foundation, with 95% of their assets invested in shares of Coca-Cola is terrifying. Berry College's 60% share concentration of Coca-Cola within their total endowment, the 29% concentration of Coke shares in Washington and Lee University's endowment, and even Georgia Tech's 25% concentration in Coke shares related to their endowment are equally alarming. I found myself perplexed reading that Georgia Tech, like most schools who benefited from the Lettie Pate Evans Foundation's Coca-Cola holdings does not consider that concentration when making asset allocation decisions for the rest of its endowment portfolio. Would these universities actually consider adding shares of Pepsico or Dr Pepper Snapple to their endowments while ignoring their high correlation to Coca-Cola?

The quote that jumped out at me the most in the article was from the vice president for finance at Washington and Lee University indicating that "It's a great life jacket to have" when referring to the dividends generated by the Coca-Cola shares. Although it is easy to enjoy the growing stream of dividends derived from an investment, I think it would be wise for the vice president for finance to realize that past investment returns are not a guarantee of future success. As Coca-Cola's earnings have failed to grow in recent years, their payout ratio has increased, and future dividend growth will be challenging without a corresponding increase in earnings. I sincerely hope that the trustees for the Lettie Pate Evans Foundation and the various college endowments mentioned in the article make a greater effort to diversify their holdings in order to provide more stable funding in the future.

As dividend growth investors, we must harness the power of compound growth in dividends over time to realize the potential benefits of steadily rising passive income, without ignoring the pitfalls related to portfolio concentration and sustainability of payouts. As fascinating as it was to read how well the Evans Foundation and various college endowments had done due to their concentration in Coca-Cola shares, I found myself worried for the future prosperity of these institutions and the stakeholders they serve.

Thursday, April 20, 2017

After purchasing shares in four companies during the first quarter of 2017, it’s time to identify which companies I am contemplating investing in this quarter. Since my investment portfolio consists of my unregistered account, my TFSA, and RRSP, that will be the format in which I present my considerations.

Unregistered Account

I continue to look for an opportunity to complete my position in Emera (TSE: EMA), but am in no rush to do that given it’s up over 5% in the last month without any material changes to the company. I am interested in Aecon Group (TSE: ARE) as they would provide me exposure to the construction sector and also have a history of growing their dividends. Although the current P/E of 25X is a tad rich based on historical standards, any weakness in the share price would make this company quite attractive. Lastly, I have been considering selling my shares in Corus Entertainment (TSE: CJR.B), waiting at least 31 days, and then buying them back. The tax loss this would create for me would be lucrative given I am running out of tax losses to apply to capital gains.

TFSA

Although not particularly cheap given past and peer valuations, I will likely add a small number of shares of TD Bank (TSE: TD) that has a trailing P/E of 13.8X. As mentioned in previous posts, part of my plan for 2017 is to add to positions in which I am comfortable. Given the recent weakness in TD’s share price due to media reports of their aggressive sales practices, I feel this is an opportunity to bolster my position in my favorite Canadian bank. The other security I would consider adding in my TFSA and RRSP is Brookfield Infrastructure Partners L.P. (TSE: BIP.UN). Although I feel late to the party on this company, when I looked at it from a P/FFO perspective (vs a P/E valuation), I see a much more reasonably priced company than I first figured. Their record of dividend growth is outstanding, as is there record of accreditive acquisitions.

RRSP

Beyond BIP.UN, the most likely purchase in my RRSP during Q2 will be more shares of Tanger Factory Outlook (NYSE: SKT). I hope the valuation stays below a P/FFO of 15X (about 13X currently) so that I can add to this well managed discount mall REIT. In accordance with my plan to add to positions that I feel very comfortable in, I will likely make a small purchase of A&W Income Fund (TSE: AW.UN). This restaurant chain has reported impressive same-store-sales growth over the last two years, and I like their plans to add more restaurants in urban areas during the next five years. Lastly, I have been considering exiting my Kinder Morgan position (NYSE: KMI). The combination of a low Canadian dollar compared to the US dollar, stagnant oil prices, and the realization that I’m overexposed to the pipeline sector through my other Canadian holdings (TRP, ENB, ENF) have me considering moving on from Kinder.

As always, my watch list companies can change as events unfold, but the above encompasses what I am considering at the start of the second quarter of 2017. From a contrarian perspective, I am considering initiating a short-term position in Home Capital Group (TSE: HCG). When asking myself what's the worst that could happen due to OSC allegations of slow disclosure regarding unscrupulous mortgage brokers, I think the most likely outcome for Home Capital is paying some fines and possibly dismissing their current CFO. With shares selling at 6 times 2016 earnings, the company has an appealing short-term risk/return profile.

1. Consider buying individual stocks in December when other investors are tax loss selling.

2. Average down on a company only once at the most. After that, if you really believe in the company, consider selling the stock and buying it back after a month in order to lock in the tax loss.

3. Only invest in securities that have the potential for at least a 50% return.

4. Invest in companies that have existed for a minimum of 10-years.

Given Benj recommends a portfolio of 15-25 stocks diversified across different sectors, I was curious if screening the TSX for companies that met some of his investment criteria would yield a sufficient pool of candidates to choose from. The below screen was generated using the following criteria:

1. Listed on the TSX (1482 companies)

2. Market capitalization over $100M (813 companies)

3. Share price less than $25 (597 companies)

4. A minimum of 10-year operating history (372 companies)

5. Dividend yield greater than 0% (185 companies)**

6. Current share price down at least 33% from the 52-week high (10 companies)

** Although Benj Gallander appreciates stocks that pay dividends, it is not a strict screening criterion. I decided to add a positive dividend yield in order to narrow down the list of potential contrarian buys and make the screen more relevant to dividend investors.

**

The above group of companies provides exposure to the financial (HCG), consumer discretionary (HLF and HBC), commodity (YRI), and energy (BNP) sectors. If any of the names are of interest to you, it is worth considering another of Benj's timeless tips: watch a company for a minimum of six months before investing in them. Such caution is warranted given the inherently riskier nature of stocks trading far off of their 52-week high prices. Regardless of your perception of the above contrarian stock screen, I highly recommend reading The Contrarian Investor's 13 as it provides a great deal of insight into what makes a contrarian investor successful in the Canadian market.

Would you consider investing in any of the 10 companies listed above???

Friday, April 7, 2017

I recently read the book "Market Masters" by Robin Speziale which contains interviews with 28 of Canada's best known investors. It was refreshing how forthcoming the investors were explaining the investment strategies that they followed and critiquing their own past investment decisions. One of the big takeaways from the book is that there are many different strategies to make money through investing so one must remain open in order to be successful in the long-term. In that light, the three screens below are based on different investment strategies outlined in the book.

High Free Cash Flow Yield

Barry Schwartz searches for companies that have free cash flow yields of 8% or higher and competitive advantages. In order to narrow down the results, I filtered for a minimum 2% dividend yield and at least 1% dividend growth over the last year. The following list of 21 companies contains many familiar names for Canadian dividend growth investors.

High ROEJason Donville invests in companies that have maintained their return on equity of at least 20% over seven years. Companies that meet his demanding criteria tend to be excellent capital allocators. Although the screening tools I used did not allow me to review ROE over seven years, I included a list below based on the 20% ROE benchmark over the last 12-months, a minimum 2% dividend yield, and at least 1% dividend growth over the past year. It is interesting to note once again the number of familiar names for Canadian dividend growth investors.

Beat the TSX
I first heard of Ross Grant's 'Beat the TSX' investment strategy on local blogger Mark Seed's myownadvisor site. The strategy is comparable to the 'Dogs of the Dow' philosophy and consists of buying equal dollar amounts of the 10 stocks in the S&P TSX 60 index with the highest dividend yields. Stocks are held for a year and then rebalanced based on year end prices. By limiting the investment universe to the 60 largest companies in Canada by market capitalization, you're buying large companies trading at relatively low prices. Although one cannot follow this strategy blindly, there are many interesting and familiar names in the list of 10 highest yielders at December 31st, 2016.

I would highly recommend reading the interviews in Market Masters with an open mind. Hearing from Bill Ackman (not Canadian, but with a long history of making big investments in Canadian companies) and Derek Foster was particularly enlightening given my preconceptions of both investors were changed after reading what they had to say. From momentum, to charting, to quantitative based approaches, to extreme value, everyone can benefit from learning about different investment strategies.

Which investment strategy different than your own do you find the most interesting?

Disclaimer

This blog represents my personal investing strategy given my own investment goals and risk tolerance. Entries are not meant as investment advice. I am not an investment professional or a financial advisor. I am not responsible for the investment choices readers make, nor am I responsible for the comments posted by readers.